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Late payments go hand-in-hand with working in the construction industry. But the results of a recent study will stun even the most experienced of contractors. Rabbet found that the financial cost of late payments was a staggering $208 billion in 2022. Even more, 37% of contractors surveyed in the study claim they’ve had to stop work due to delayed payments.
In the construction industry, the payment chain often works like a set of dominoes, with financial burdens falling from one piece to the next. First are property owners and lenders, followed by general contractors, and finally, subcontractors. Unfortunately, this setup means that subcontractors bear the brunt of slow payments, feeling the impacts the hardest.
Contract financing can help manage payments to subcontractors, ensuring they receive timely compensation. Progress payments are considered contract financing and are not subject to the interest penalty provisions of the Prompt Payment Act.
The best way to overcome the frustrations of payment chains is to understand the most common construction billing methods. That way you’ll know when and how you can expect to be paid for each project. Don’t let bureaucracy or a lack of knowledge stand in the way of fair compensation.
This brings us to two of the most used billing methods in construction: Progress billing and milestone billing. Two foundational methods that contractors must know backward and forward.
In this article, we will look at the advantages and disadvantages of each method and when to use each style for maximum effectiveness.
Although similar, the main difference lies in the timing of payments. Progress billing will invoice on a regular cadence based on the amount of work completed as the project progresses, allowing for partial payments.
Progress payments are partial payments made as the construction project reaches predetermined milestones or specific percentages of completion. A perfect example is the aptly named percentage of completion billing style, in which progress payments are based on the percentage of work completed.
Milestone billing, on the other hand, will trigger the billing process once predetermined deliverables, or milestones, are hit. For example, a contractor may send an invoice (milestone payments) when they complete the foundation of a structure.
Either option is viable for a profitable project; however, the billing method used will depend on the needs of the project, contractor, and project owner.
For large projects, milestone billing provides a way to carve the journey ahead into clear and transparent steps. Each new milestone serves as a direct path forward. Instead of meticulously tracking percentage of completion numbers, contractors are paid based on clearly defined outcomes.
It’s a way to foster a shared understanding between the contractor and project owner of what needs to be done before payments are submitted. Every milestone brings not just a chance for compensation, but innovation and speed — the faster you get there, the quicker you can get paid.
Project owners may prefer this method because they will know exactly what they are paying for at each milestone. And if work is delayed, they will only incur costs on already completed work. This can allow for flexibility on project scopes without incurring additional charges should work be reduced.
Main advantages of milestone billing:
Milestone billing requires you to set the stage for multiple end goals. Yet, it can be challenging to estimate expenses since the exact timeline of each milestone is unknown.
This can often lead to delays in payment as, prior to any invoices, project owners must decide if the work is up to their expectations. If any rework or adjustments are needed, you’ll have to wait even longer for payment.
To mitigate these issues, both contractor and project owner need to communicate regularly, and the contractor needs to provide an accurate cost estimate from the get-go and stick to the milestones’ estimated timetable.
Main disadvantages of milestone billing:
The advantage of progress billing is found in precedent. It has become a classic approach in the world of construction. By using it, you get the convenience of a widely used and accepted methodology. Many in the industry will be familiar with the process, and many resources are available to help you get things right. Plus, you can expect steady cash flow all project long – that is, as long as you can appropriately match your building schedule with your cash needs.
This is especially important since this method usually follows a percentage-of-completion model that must strictly adhere to a payment schedule based on the total contract price. Progress payments are based on cost incurred under the contract.
This takes extra effort and know-how, but if managed correctly, you’ll be able to confidently use cash more strategically throughout projects. Paired with a consistent job costing system, progress billing is a great way to stay organized and professional on long, complex projects.
Construction management software can make progress billing simple and efficient. It can also help you track and review project costs, like material costs, labor, equipment expenses, and any other miscellaneous costs incurred throughout the lifecycle of the project.
Main advantages of progress billing:
While highly structured and standardized, progress billing requires meticulous attention to detail from contractors. If a job costing system isn’t in place, progress billing, especially AIA-style progress billing, can become a massive undertaking.
With this kind of billing, you need to diligently catalog and monitor your costs. If thoroughness isn’t up to par, obstacles will arise, and dust will fly when your GC finds out that you didn’t update estimates and costs after the last batch of change orders went through. Not to mention that on large projects spanning multiple years, the IRS will likely require the use of a percentage of completion method. Meaning they, too, will be double-checking your work.
Disputes can also occur regarding the specific percentage of project completion. One rounding error can throw off every other estimate and cost figure in the project. As a result, it’s all the more crucial to have clear documentation of tasks and costs.
Main disadvantages of progress billing:
Construction projects that work best with milestone billing are more extensive projects with multiple stages or phases, such as:
In many cases, installing utilities, such as water or electricity, is only one part of a larger construction project. Milestone billing can be a great way to ensure you receive payment for this work as the job progresses.
While retainage contracts are sometimes tricky to manage, milestone billing can also help here. By spreading payments across project milestones, it becomes much easier for contractors to plan out payments and keep up with payment cycles.
Progress billing is best used (and often required) on long-term projects spanning two or more years. Payments can be divided into multiple installments (typically monthly) for each project phase. This can help contractors maintain a steady cash flow while recognizing the completion of each phase of the project.
In practice, contractors will receive cash every month, easing some of the financial burden seen in fixed-price or lump sum contracts where contractors must front the cost of the entire project upfront and wait until the project close to receive payment.
Please note that for government projects in the US, the Contracting Officer has the authority to reduce or suspend progress payments under certain conditions, such as the contractor’s failure to comply with contract requirements, unsatisfactory financial condition, or the fair value of undelivered work being less than the amount of unliquidated progress payments.
Progress billing is best for:
If you’re a construction contractor looking for a way an easier way to bill clients and make project management more efficient, Knowify is here to help. This all-in-one software platform offers the perfect combination of project management tools, billing and invoicing tools, and payment processing.
You can quickly enter material and labor costs, generate project cost estimates, create detailed invoices, track project performance, and interact with clients in one easy-to-use platform.
How Knowify helps contractors manage invoicing and billing:
Knowify makes progress billing less tedious. Schedule a demo today to see how we can help you confidently handle progress billing for any job. Get paid on time, every time.
